Retiree Ponzi Scheme Is $16 Trillion Short: Laurence Kotlikoff

Aug. 25 (Bloomberg) -- Social Security just celebrated its
75th birthday. Love it or hate it, it has done its job and
should retire. We need a new system, the Personal Security
System, which retains Social Security’s best features, scraps
the rest, and covers its costs.

Social Security’s objective -- forcing people to save for
retirement -- is legit. Otherwise millions of us would seek
handouts in our old age.

But Social Security has also played a central role in the
massive, six-decade Ponzi scheme known as U.S. fiscal policy,
which transfers ever-larger sums from the young to the old.

In so doing, Uncle Sam has assured successive young
contributors that they would have their turn, in retirement, to
get back much more than they put in. But all chain letters end,
and the U.S.’s is now collapsing.

The letter’s last purchasers -- today’s and tomorrow’s
youngsters -- face enormous increases in taxes and cuts in
benefits. This fiscal child abuse, which will turn the American
dream into a nightmare, is best summarized by the $202 trillion
fiscal gap discussed in my last column.

The gap is the present value difference between future
federal spending and revenue. Closing this gap via taxes
requires doubling every tax we pay, starting now. Such a policy
would hurt younger people much more than older ones because
wages constitute most of the tax base.

What about cutting defense instead? Sadly, there’s no room
there. The defense budget’s 5 percent share of gross domestic
product is historically low and is projected to decline to 3
percent by 2020. And the $202 trillion figure already
incorporates this huge defense cut.

The 3-Year-Old Vote

Reducing current benefits, most of which go to the elderly,
is another option. But such a policy is highly unlikely. The
elderly vote and are well-organized, whereas 3-year-olds can
neither vote, nor buy Congressmen.

In contrast, cutting future benefits is politically
feasible because it hits the young. And that’s where Congress is
heading, starting with Social Security. The president’s fiscal
commission will probably recommend raising Social Security’s
full retirement age to 70 from 67, for those who are now younger
than 45. This won’t change the ages at which future retirees can
start collecting benefits. It will simply cut by one-fifth what
they get.

Some political economists point to Social Security’s 2010
Trustees Report and say, “Leave it alone. The system won’t run
short of cash until 2037.”

Misleading Accounting

Unfortunately, the Trustees’ cash-flow accounting, like all
such accounting, is arbitrary and misleading. In fact, Social
Security is broke. Its fiscal gap, which the Trustees measure
correctly, is $16 trillion.

This gap is small compared with the U.S.’s overall $202
trillion shortfall, not because the Trustees treat Social
Security’s $2.5 trillion trust fund as an asset (a questionable
choice), but because they credit one-third of federal revenue to
the program.

But dollars are dollars. If we re-label Social Security
“payroll” taxes as “general revenue wage taxes,” Social
Security’s fiscal gap increases by $60 trillion, and the fiscal
gap of all other government activities falls by $60 trillion,
leaving the overall $202 trillion gap unchanged.

Even by the Trustees’ measure, there’s a massive problem.
Coming up with $16 trillion requires permanently raising revenue
or cutting benefits by 26 percent, starting now. In other words,
the program is 26 percent underfunded.

Hitting Young People

Now cutting benefits of new retirees by 20 percent, with an
increase in the so-called full retirement age, starting 20 or so
years from now isn’t the same as immediately cutting the
benefits of all retirees by 26 percent. Hence, the fiscal
commissioners will need to hit young people with an even bigger
whammy if they really want to solve Social Security’s long-term
woes.

Most likely, Washington will simply raise the retirement
age and kick the can further down the road. This is what the
Greenspan Commission did in 1983, knowing full well that by 2010
the system would be in even worse shape.

I say, retire Social Security and replace it with a version
that works. Do this by freezing the current system, paying
today’s retirees their benefits, while paying workers only what
they have accrued so far once they retire.

Next, have all workers contribute 8 percent of their pay to
the new system, with half going to a personal account and half
to an account of a spouse or legal partner. The federal
government would make matching contributions for the poor, the
disabled and the unemployed, permitting the system to be as
progressive as desired.

Going Global

All contributions would be invested in a global, market-weighted index of stocks, bonds, and real estate. The government
would do the investing at very low cost and guarantee that
contributors’ account balances at retirement would equal at
least what was contributed, adjusted for inflation.

Between ages 57 and 67, each worker’s balances would
gradually be swapped for inflation-indexed annuities sold by the
government. Those dying before 67 would bequeath their account
balances to their heirs.

While this plan has private accounts, Wall Street plays no
role and makes no money. Additional contributions would be used
to fund life- and disability-insurance pools.

Our nation is in terribly hot water. Business as usual is
no answer. The only way to move ahead is to radically reform our
retirement, tax, health-care and financial institutions to
achieve much more for a lot less.

The Personal Security System is a major step in that
direction. It meets all the legitimate goals of Social Security
without the system’s waste and penchant for robbing the young.

(Laurence J. Kotlikoff is a professor of economics at
Boston University and author of “Jimmy Stewart Is Dead: Ending
the World’s Ongoing Financial Plague with Limited Purpose
Banking.” The opinions expressed are his own.)